banking and finance: Performance outlook and red flags for Asian banks

I. Introduction
1. The Asian Banker held a high-level dialogue with CROs and their senior management equivalents at the Kuala Lumpur Convention Centre, Kuala Lumpur on 20th May 2014
2. The following report summarises the central points presented by the key speakers of the session, including main issues discussed, as well as the Question and Answer session that followed.
3. The objectives of the session were to discuss
  • Findings from annual submissions to the Asian Banker risk management awards evaluation
  • The risk profiles of Asian banks and where are the red flags showing
  • Implementing risk culture in emerging markets
II. In Attendance
Key participants in this dialogue were:
Ramnath Krishnan, Chief Risk Officer, HSBC Malaysia Berhad 
Jeroen Thijs, Chief Risk Officer, Bank Islam Malaysia Berhad
Kim Fan Kwai, Chief Risk Officer, Bangkok Bank
Adinor Mohamed Yunus, Chief Risk Officer, Bank Muamalat
Lam Kah Hoe, Head Operational Risk, Bangkok Bank
Richard Liew, Head of Risk Management, Bank of East Asia
Alvin Arrais, Head of Operational Risk, Bank of East Asia
Yong Yeong Yen, Head of Market Risk, Bank of East Asia
Rungporn Roengpitya, Head of Quantitative Models and Financial Engineering Team in the Financial Institutions Policy Group, Bank of Thailand
Sivadas Menon , Chief Risk Officer, Scotia Bank Malaysia
Chng Sok Hui, CFO, DBS 
Ramzi Sharif, Chief Risk Officer, Maybank
Pallath Ramakrishnan, Chief Risk Officer, India International Bank (Malaysia) Berhad 
Sukardi Rahmani, Head of Treasury, National Bank of Abu Dhabi
Lisa Ryu, Head of Stress Testing, Federal Reserve System
Christian Hunt, Bank of England, Prudential Regulation Authority, Bank of England
Malcolm Knight, Professor of Finance, LSE & former Chief Executive, BIS & former Group Vice-Chairman, Deutsche Bank
Gertrude Tumpel-Gugerell, Supervisory Boardmember, Commerzbank & Chair, EU Expert Group on Debt Redemption & former Executive Boardmember, ECB
Bradley Ziff, Senior Risk Advisor, Misys Global Banking 
Mark Lawrence, MD, Mark Lawrence Group & former Founding CRO, ANZ 
Gordian Gaeta, International Resource Director, The Asian Banker 
Foo Boon Ping, Managing Editor, The Asian Banker
III. Presentation
The Asian Banker presentation notes
  • Risk Managers in Asia mostly focus on the following areas: 
    • Volatility in global economic conditions
      • Impacts to Asian EM, from reversal of monetary easing 
      • Political instability and nationalistic isolation 
      • Household debt and housing bubble
  • Funding liquidity
    • Rules on LCR and HQLA 
    • By currency
  • Technology risks management and use of analytics 
    • Performance and governance 
    • Cybersecurity 
    • Risk reporting
  • Regulatory and compliance 
    • Cost and resources required to manage extra-territoriality of regulations
  • Slower growth outlook for emerging Asia 
    • External environment: More positive global outlook led by recovery in G3 economies
    • Secular growth outlook 
      • QE Taper – Adverse effects of global capital movements 
      • Ongoing measures/reforms to address imbalances
    • Risks exist 
      • China: Financial reforms, shadow banking
Bradley Ziff’s presentation notes
  • Key takeaways: challenges and opportunities
    • The global financial markets will be continue its transformation as regulations continue to be adopted by financial institutions
      • Regulated banks will take on more traditional activities in less risky assets and businesses, committing less capital and acting more on an agency basis (vs. principal)
      • Unregulated sell-side and NBFIs will continue to benefit from this ongoing trend in the transition of risk and risk-taking activities
    • Market participants express serious concerns over global regulators as “risks” themselves (despite the goals of strengthened balance sheets, systemic risk 
      • Unintended consequences of regulatory overreach may lead to potential liquidity issues throughout the financial system (less banks active in otherwise capital-intensive products and business units or exiting altogether due to the operating expenses), as well as less financial innovation and slower economic growth reduction, etc.)
  • Potential arbitrage opportunities exist for financial institutions to adapt to the new landscape
    • Changes in the current financial ecosystem – driven largely by macroeconomic trends, regulation & compliance issues and the realities of running complex business units – present an opportunity to foster new investments and take advantage of creative solutions for the capital markets
    • Lack of a homogenous approach of regulatory guidelines across countries and regions has led to investor capital flows and financial resources being re-directed across the globe (i.e., non-US banks looking to Asia for significant growth in retail and wealth has led to investor capital flows and financial resources being re-directed across the management)
Mark Lawrence’s presentation
  • For many EM firms, creating the environment for all staff to easily & routinely speak up about risks is the biggest challenge to establish a strong risk culture 
    • Ultimately, opaque or rapidly changing risks are understood - and acted upon – through conversation and dialogue – it is therefore essential to ensure that this dialogue about risks is effective, at every level and in all parts of the organisation 
    • In particular, to strengthen the risk culture in order to effectively balance risk & return at every level, firms should: 
    • Deliberately seek to create an internal environment that encourages open dialogue about risks, at every level and in all business units 
    • Pay conscious and deliberate attention to both the existence and quality of this dialogue, and 
    • Carefully assess and remedy any impediments to the dialogue, over time 
    • In particular, for many emerging market firms, the largest challenge is often to create an environment which empowers all employees to question/challenge/escalate things that they don’t understand, in such a way that they routinely do this 
      • This is absolutely essential, but often very difficult to do, especially for junior staff 
    • Establishing the desired risk culture is the responsibility of the Board, CEO and leadership team – the CEO and executive team members must lead by example, continually emphasising the importance of properly discussing and understanding risks, and encouraging employees to debate and “speak up”…
IV. Key discussion notes
  • Risks may no longer be on balance sheets, many have been misled by the potential of risk modelling, is there an overreliance on risk models? 
  • On the issue of risk culture, how relevant is the issue of incentive and compensation on risk culture for Asian banks? 
  • What are the downside risks for Asian banks?
  • The implication of non-compliance
V. Detailed discussion notes
  • Risks may no longer be on balance sheets, many have been misled by the potential of risk modelling, is there an overreliance on risk models?
    • Models are just a calculator and are pretty accurate. It is because of what is being input that actually causes the output or outcome to be bad/wrong.
    • Fair value for accounting is very volatile and it raises questions, and may not be a great steering mechanism for banks
    • The role of control self-assessments: Do anonymous check-up/assessment on various departments on your banks. Force everyone to look at the risk dashboard, and do assessments on it every day from start and closure every day.
    • If fair value is imposed as a regulatory requirement, it will be very risky especially for firms with very low leverage and long investment horizon.
    • Instability in financial market will occur due to regulated rates for all firms, high and low leveraged alike.
    • After the financial crisis, the measurement is dependent on the business model.
    • Banks that operate different models should allow separate treatments, so as to stabilise the system.
  • On the issue of risk culture, how relevant is the issue of incentive and compensation on risk culture for Asian banks?
    • In different institutions they play different roles. In Asian Banks, where the trading business may not be as significant it plays a lesser role.
    • However, in situations where traders and risk managers’ compensation is vastly different, the chance of having an objective dialogue about risk is zero.
    • It is less an issue for compensation for traders, because it’s not an overall component of P&L for most Asian banks.
    • Banks have to be thoughtful of how they structure their compensation.
    • One bank includes a scorecard in its annual report to look at how this is done
    • This is not only a P&L metric, and it looks at the short and long term strategic choices, different shareholder groups, customers etc
    • Traders who display wrong type of behaviour will be penalised.
    • Corporate treasury function has very good analytics, business people will know that the type of deals they put on. The structure is not desirable as it makes money for the business but not the bank.
    • Risk culture is really about dialogue, talking and speaking up. 
    • In addition to all internal audit, dashboards etc, sometimes people will not test whether or not people are speaking up in certain departments or not. 
    • Risk culture is very hard to define, as not all firms that have a certain incentive compensation structure have bad risk culture.
    • The board and senior executives in a bank often do not know or understand what risk they were undertaking during the crisis.
    • Risk culture comes from the top, and the board and senior management have to take responsibility. Risk culture takes a very long time and is difficult to change
    • Structural solutions can be done in terms of challenges for risk culture.
    • Some of the organisations that have the biggest cultural problems 5 years ago have strong internal work functions. People knew the problems with AML, transactions not being filed, etc.
    • The only way they can get a hand on the cultural dimension on the largest banks is to engage and really access themselves in dialogues. 
    • Elevate the communication in banks such that the people will know that suspect transactions have not been filed.
  • What are the downside risks for Asian banks?
    • First issue is on China, as there is a strange nexus there. The Chinese economic system is still a capitalist form of production system. The economy is still circulating at market prices, and is still quite primitive. There are some massive risks from China that may cause problems for Asia
    • The second issue is the messages from the US authorities. They over regulated the US sector, and raises huge questions about the regulatory structure.
    • The third point is the EURO due to the appreciation of the currency.
    • Some risks in the Asian Banking System. What are the implications for the banks, especially after the financial crisis.
    • Credit growth has an implication on quality; asset quality tends to lag behind credit growth.
    • In Asia, emerging markets are getting more interesting with the interconnectivity with US and China.
    • Importance of considering downside risk in terms of management of the banks, and broadening the communication of the macro economy.
    • We learn how connected the financial system is to the macro economy and the stability of the system.
    • We forget the importance of the credit channel and financial institutions’ role, and when there is a huge shrinkage in lending due to the crisis there will be a significant impact on the macro economy.
  • The implication of non-compliance
    • How can Asian Banks avoid what the European Banks are experiencing with the US regulators?
    • Credit Swiss recently pleaded guilty to tax evasion, and it has been intensified significantly to criminal conviction. Many other banks will face major crackdowns due to this case.
    • There is a policy shift due to what happened to Credit Swiss, and has progressed to criminal conviction. Huge wake up call for both European and Asian Banks, and what Asian Banks should do to avoid the same fate as Credit Swiss.
    • The problem is there is a culture of non-compliance and negligence.
    • If the senior bank leaders does not emphasize on this problem throughout the bank, complacency and negativity sets in. Disclosure is bad news
    • The risks of banks are moving, and the regulators wanted to move risk away from banking system to somewhere else instead.
    • Banks have to build their own infrastructure that can support risks that can sustain/survive external shocks
VI. Conclusion
  • Risk culture is all to do with the basic texture and value system of the banking system
  • In Europe and US, the value system is fundamentally different, same as for Middle East and Asia.
  • Asian Banks face the consequences of the actions of the US government and the market structure, capital markets in other continents.
  • Risk is nothing but a reflection of the value system